In the early 1980’s, I discovered something I call “cap table mathematics”. I found that I could make more money if I did a little cap table math. It is very important because when you’re investing you want to be sure that you know exactly how much you are looking at. One of my investors who knows a lot about this area, suggested that I put together a slide show. I have printed that slide show and laminated it. That way, I can take a look at it and have a visual idea of the investment opportunities I am considering.
“One of the Immutable Laws of venture capital is there are just 100 potential points on that cap table. They are priced as a percentage of your value in a round robin format.” That’s great Cap Table Math!
The reason why the 100 point valuation is important is because of the “option pool”. The option pool is simply a fancy way of saying we will invest x amount of dollars and you get x amount of shares of stock. When I presented that slide show to my investors, they really liked that slide show and asked me many questions about cap table math.
Some of the questions that they had were: do I need to use the exact percentages to determine my valuation? Do I need to use only end of cap tables? If I used only end of cap tables, do I need to know about the historical percentages? I explained to them that I needed to know about the percentages but that I also needed to have the flexibility to determine my own valuation.
Let startups explain what I mean by flexibility. We like to say that an investment is considered a sweet deal when the price is below book. We like to say that it is a lousy deal when the price is above book. There are many reasons why we think one price is preferable to another. It could be because one stock has had a big run and the other has been mediocre. We just prefer to call them “sweet” or “lumpy” instead of calling them reasonable or sensible.
The flexibility that I talked about above is exactly what the VCCV and PVCT represent. startups can easily manipulate the values of these two pieces of raw data to fit your own needs. startups may even use one or the other but not both. I have calculated the VCCV and PVCC values for nearly every hot list investment I have in my portfolio. The VCCV and PVCC calculate the fair market value of all the shares I own.
What happens if I take all my common preferred stock picks as an example, and then add them up. What you get is the net capitalization table. Here is what you see. The stocks on the far left are called preferred stock and the stocks on the far right are called ordinary shares.
Now you see what happens when you combine the numbers from the PVCC and VCCV formulas. All of these numbers will give you an idea of how much each share of each category should be priced. When you do all of this cap table math yourself it becomes very clear. You don’t have to pay attention to the sweet and bad of the market. You only have to look at the numbers and determine which is the value of an option in this depressed market.
Here is another example. We know the date of the stock market crash. Many investors panic and sell their shares in the hopes of riding this wave of selling prices until the cliff_date. Once that date comes, many investors will be off the stock market and into the safety of owning cash. The value of their shares decreases and they have lost a lot of money.
There are many other scenarios involving cap tables, or the discount prospectus. If you’re using the free enterprise version of these products, you can find the answer to almost any question. If you’re using the proprietary version, you have to purchase the program and pay the licensing fee. There is also the risk of a dangerous side effect called dilution.
Some investors use cap tables and discount prospectus to make investment decisions. This is a good thing, but they must be very careful how they choose which discount plan or product to use. There is a risk that they might lose too much money if they start too high, and never see any upside. Using sample cap tables is a great way for those who want to learn more about this type of investment security.